Sustainable Finance: My 'human' test of Future Finance

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Financial capital is a necessary vehicle to deliver the legacy we want — but it's not the overall objective, says Mark Peterson.

As a parent of two Gen-Z teenagers, I think a lot about their futures — as their Dad, and as someone involved in a sector who can lead change.

When we imagine a truly sustainable finance system, there is a simple 'human' test for me that's perfectly expressed in the quote from Ngāi Tahu on Page 14 of the Sustainable Finance Forum (SFF) 2019 Interim Report: Mō tātou, ā, mō kā uri ā muri ake nei.

We should always be asking ourselves as business leaders — how will my actions and decisions today make a positive difference tomorrow "for us and our children after us"?

This judgement of future generations — central to the Māori world view and kaitiakitanga — is a very powerful lens when we front-up to the risks and seize the opportunities within the finance sector, more broadly for our country, and ultimately for the sustainability of resources globally and the health of the planet.

The eyes that I'm looking through are those of my children, Matt and Georgie. How can I do my best by them?

The value of transparency

Our businesses today are not just concerned about losing customers or capital, they're also concerned about losing access to raw materials and products, and that New Zealand's international brand advantage may be eroded.

In our submission to the Financial Markets Authority this month on Green Bonds and Other Responsible Investment Products we lent our support to initiatives to provide greater clarity around the conduct and disclosure practices for green, ethical and responsible investment products. We said that we considered these products to be crucial to New Zealand's ability to maintain its international standing through responsible investment practices.

As a small domestic market, unlocking access to investment will provide broader benefits for all New Zealanders through the development of a productive and sustainable economy. Environmental, Social & Governance (ESG) reporting is a foundation for the development of green, ethical and responsible investment products — by enabling investors to make informed investment decisions based on these criteria.

Our recent report ESG Reporting Uptake in S&P/NZX 50 Index & Investor Perspective 2019 examines the most recent annual reports and sustainability reports of New Zealand's largest listed companies.

The report shows that New Zealand companies with a high exposure to offshore investors and customers are increasingly moving to disclose and discuss their approach to sustainability and how they are managing ESG risks — and opportunities.

We see the global push for greater transparency on non-financial performance as a showcase opportunity for New Zealand businesses and brands. A vital role for New Zealand's Exchange is to ensure capital can be invested with confidence into companies that provide opportunities for sustainable growth.

We know investors today want to feel comfortable about where they put their money and that there's a good fit with their personal values. That's a huge opportunity for New Zealand businesses — who already have very strong stories — to promote their stewardship of natural resources, how they look after the wellbeing of their people and how they are responding and innovating around customers' needs.

The ability of businesses to prosper over the long-term is materially reliant on a broader confidence — and deeper understanding — that comes from quality reporting on how you are executing your strategy, how you are managing operational activity and the behaviours that you hold dear in your company.

Of the companies in the S&P/NZX 50 at the end of May 2019, 42 reported on social metrics such as employee gender diversity but only 28 acknowledged climate change. Most companies did not use a recognised framework or structure for their ESG reporting — 17 used the Global Reporting Initiative and five followed the Integrated Reporting framework.

This is not just about risk management, meeting fiduciary obligations, or a compliance exercise. ESG is at its core about recognising what's important to your customers, owners and other stakeholders — and embedding this in your purpose and strategy. This is when it can become a genuine point of differentiation and also a mechanism for shifting behaviour.

The growing importance of non-financial reporting has been well signposted. EY's institutional investor survey Tomorrow's Investment Rules 2.0 released in 2015 showed both an increasing focus and reliance on ESG analysis — with 80 per cent at that time saying they considered mandatory Board oversight of non-financial performance reporting "essential" or "important".

But intangible value assessment and sustainability ratings are inherently complex. A lot of businesses have been scratching their heads, wondering how to tackle ESG reporting. How do they ensure that markets have an informed view of the capital profile of their company, appropriately pricing social and environmental dimensions?

ESG toolbox for issuers

At NZX we published our first Sustainability Report in 2018 — while also recognising the wider need for support, particularly among smaller cap companies listed on the New Zealand market. This was achieved as part of introducing the NZX Corporate Governance Code, which was the product of more than 18 months of consultation, 90 submissions and direct conversations with local issuers.

One of the key aims of the Code was to promote issuer disclosure of environmental, social and governance factors, considering material exposure to sustainability risks and other key risks — and explaining plans to manage these and how operational or non-financial targets can be measured. This aspect of the Code was supported by a new Environmental, Social & Governance Guidance Note — and was welcomed as providing an essential toolbox for companies addressing this new level of scrutiny and changing expectations.

In bringing non-financial reporting under the NZX Corporate Governance Code, this guidance note helps issuers better understand the benefits of ESG reporting and the global reporting regimes available. The focus was on: linking issuers with resources; highlighting available global frameworks; and communicating strategies for identifying and managing materially significant ESG opportunities and risks to stakeholders and investors.

Growth of green bonds

Another element of future finance that complements transparent sustainability reporting is green financial products, such as green Exchange Traded Funds (ETFs) and green bonds — responding to the growing international trend towards sustainable investment and investors who are more conscious of where they put their money.

Many exchanges worldwide have been involved in the promotion and accreditation of new products, where proceeds are used to finance or refinance climate-friendly or environmental projects.

We welcomed our first green bond to be listed on the NZX Debt Market in June 2018, supporting our strategic commitment to grow our country's environmental markets. This listing by Auckland Council was a key milestone as we work more broadly to develop New Zealand's green market. Proceeds from the offer of $200 million of unsubordinated, fixed-rate bonds were earmarked for Auckland's low-emission public transport solutions.

In November last year Salt Investment Funds also listed New Zealand's first-ever carbon fund, trading under the ticker code "CO2". The Fund attracted interest from a diverse group of retail and institutional investors: seeking to invest in the future price of carbon as a commodity; with a financial risk exposed to a higher price on carbon; or wanting to contribute to slowing climate change.

Global issuance of green bonds has quadrupled since 2014 and set a record US$100 billion for the first half of 2019. However, in New Zealand while the green debt market has risen year-on-year it remains small and under-utilised — despite an abundance of potential issuers and strong investor interest.

We are supporting the development of appropriate disclosure and conduct settings, for the development of green and responsible investment products. These products could create an international competitive advantage for New Zealand, given the potential to use the proceeds in renewable energy, green buildings, waste management, sustainable water management and land-use (including sustainable forestry and agriculture), clean transportation and biodiversity conservation and climate change adaptation.

As we say in the SFF 2019 Interim Report: financial capital is a necessary vehicle to deliver the legacy we want — but it's not the overall objective.

It would be easy — as with other sustainability challenges — to see the massive redirection of public and private capital, we need in such a short period of time, as too hard. Or we can look at it through the eyes of our children, and their children — so that we leave the world in a better state than when it was handed to us — "taking something finite and make it infinite for future generations".

Global action on ESG

NZX is a member of the UN Sustainable Stock Exchange initiative, a peer-to-peer learning platform for exploring how exchanges, in collaboration with investors, regulators, and companies, can enhance corporate transparency — and ultimately performance — on ESG issues and encourage sustainable investment.

As part of the World Federation of Exchanges (WFE), our team at NZX has also been contributing to a set of Sustainability Principles, which identify the primary ways in which exchanges can contribute to advancing the sustainable finance agenda.

Many WFE members are already active across several of the Principles — encouraging or requiring their listed companies to disclose relevant Environmental, Social & Governance (ESG) information, providing mechanisms for raising capital to finance sustainable outcomes, and educating market participants about the importance of ESG issues.

Exchanges are also potentially impacted by shifts in investment preferences, and NZX has been involved in exploring how to address sustainability in the context of commodity derivatives markets — with the potential to create new risk mitigation tools and incorporate sustainability elements into existing contracts.

Read the Sustainable Finance Report here.